A whole new world – Hong Kong court rules crypto assets are property and can be held in trust

[ad_1]

Crypto exchange

Since January 2015, Gatecoin, a Hong Kong company, operated a cryptocurrency exchange platform. To access and use the platform, a customer would need to open and register an account with Gatecoin and deposit cryptocurrencies and/or fiat currencies (such as US dollars and British pounds) which could then be used to make transactions or withdrawals. Gatecoin has also engaged in full-fledged cryptocurrency trading, including trading with its customers. The company was dissolved by the court on March 13, 2019 and joint and several liquidators were appointed the following day. The value of cryptocurrencies on the exchange exceeded HK$140 million as of October 31, 2022.

The joint and several liquidators of Gatecoin have applied under Section 200(3) of the Companies (Winding-up and Miscellaneous Provisions) Ordinance (Cap. 32) (CWUMPO) for directions as to the characterization of crypto- currencies held by the company as well as the allocation of currencies, including fiat currencies, to its customers.

The liquidators had contacted 102,600 creditors but only 1,132 of them had filed proof of debt, representing 75% of the sums due to creditors. The liquidators considered whether the cryptocurrencies held should be considered held in trust for customers or if, in the absence of a trust, the digital assets should be made available to all creditors.

Linda Chan J began by examining the nature of blockchain technology and cryptocurrencies, the types of digital wallets operated and controlled by Gatecoin, and how digital assets are transferred between wallets in the course of business.

Overcome

The liquidators had identified three different sets of terms and conditions (T&Cs) that were in effect at different times, the supposed “2016 T&C”, “Trust T&C” and “2018 T&C”. Those who had signed the 2016 T&Cs were referred to as “Group A” customers, those who had signed the Trust T&Cs, “Group B” customers and those who had signed the 2018 T&Cs, “Group C” customers.

The liquidators considered that only the terms of the T&C Trusts had the effect of creating a trust over the currencies in favor of the clients of Group B. Linda Chan J said that in her opinion the question of whether the currencies were held by Gatecoin in trust for customers should be determined by interpreting the terms of the T&C 2018, as the T&C 2018 had replaced the T&C Trust.

Customers who had subscribed to other T&Cs were required to acknowledge and agree to the 2018 T&Cs before they could continue to access and use the Gatecoin website. She saw no reason why the court should ignore the contractual agreement between the parties and allow customers to rely on the terms of the T&C Trusts.

Although the possibility cannot be excluded that some clients registered their accounts before the entry into force of the T&C 2018 and did not access or use the platform from March 2018 until the date of liquidation of Gatecoins (from so that they did not accept or accept the terms of the 2018 T&Cs), on the facts, it was not clear whether there were such customers.

Property?

Section 197 of the CWUMPO imposes on the liquidator the obligation to hold all “property” in custody in the event of a winding-up order. The question therefore (which we think would likely arise in an insolvency situation in our previous Into the Unknown alert – cryptocurrency is property, says English court in blackmail dispute) was whether the cryptocurrency fell under the meaning of “ownership”. Since “ownership” is not defined in the CWUMPO, the court turned to the broad definition set out in Section 3 of the Interpretation and General Clauses Ordinance (Cap.1).

In Hong Kong, courts have granted exclusive interlocutory injunctions over cryptocurrencies with no party suggesting that the cryptocurrencies were not “property” (see Hogan Lovells alert Cryo-currency? The court of Hong Kong grants a freezing injunction on bitcoins).

In England and Wales, the court in AA v Persons Unknown [2019] EWHC 4556 (Comm) had found bitcoin to meet the four criteria of being definable, identifiable by third parties, inherently capable of being supported by third parties, and having some degree of permanence (see again l Hogan Lovells Into the Unknown alert – cryptocurrency is property says English court in blackmail dispute). Courts had reached similar conclusions in BVI, Australia, New Zealand, Singapore, Canada and the United States (US).

Linda Chan J noted that “like other common law jurisdictions, our definition of ‘property’ is inclusive and intended to have a broad meaning.” The court held that it was appropriate to apply and follow the reasoning adopted in other jurisdictions that cryptocurrency was “property” and could be the subject of a trust.

Trust?

While the court determined that cryptocurrencies are subject to a trust more generally, on the facts of this particular case, it concluded that a trust had not been established. The court considered the three essential preconditions for the creation of a trust – certainty of purpose, object and intention.

Object

Linda Chan J concluded that there was sufficient certainty of purpose, despite the fact that the assets were placed in a common pool. There was a “compelling reason” for the court to draw an analogy between cryptocurrencies with a trust on shares or securities because “in either case, the right conferred on the beneficiary would not depend on the precise identification of the asset held”.

Assuming that a trust could exist on a proportionate share of all cryptocurrencies, “the object of the trust vis-à-vis each customer is sufficiently certain, since the balance of the account represents the proportion of the cryptocurrencies. currencies in which that client has a beneficial interest in the pool.”

Object

A trust would be valid as long as there is no ambiguity or conceptual uncertainty in the definition of the class of beneficiaries. Here there was certainty as to purpose, as the beneficiaries of the trust and the extent of their claim could be easily ascertained in the exchange record.

Intention

Whether a trust had been established depended on the mutual intention of the parties, a matter “to be determined by an objective assessment of the terms of the agreement or relationship (between the parties) with reference to that ownership”. Here, the court ruled that the terms of the 2018 T&Cs showed that there was no certainty of intent to create a trust over the cryptocurrencies held by Gatecoin.

The 2018 T&Cs did not contain any express statement of reliance and instead made it clear that the currencies were not held in trust for clients. Additionally, two clauses of the 2018 T&C expressly excluded any fiduciary relationship between Gatecoin and the client.

All cryptocurrencies deposited by customers were not separated but transferred and grouped with others. Gatecoin was able to use the cryptocurrencies held in wallets it controlled as it saw fit, including for the purpose of performing transactions in its own right. The cryptocurrencies it held were treated as its assets in its audited financial statements, while “customer deposits” were treated as liabilities.

Separately, it appeared that a Quistclose trust had emerged in favor of Gatecoin, in respect of monies it had advanced to a market maker for the purpose of purchasing cryptocurrencies on behalf of Gatecoin, the same way such a trust would be taxed on fiat used to acquire cryptocurrencies.

Final Thoughts

The ruling is expected to give Hong Kong insolvency practitioners greater clarity about the nature and extent of a company’s digital assets in a liquidation scenario. Confirmation that cryptocurrency holdings constitute “property” that is on equal footing with other intangible assets such as stocks and shares, brings Hong Kong into line with other common law jurisdictions including the courts have already decided the question.

The dismissal of account holders’ claims that their assets were held for them by Gatecoin in trust serves once again to underline the importance of the contractual agreement reached between the parties, even when the most novel legal points are in play. decision course.

Written by Byron Phillips and Nigel Sharman.

[ad_2]